If you’re wondering what happens to your credit card debt when you die, you are not alone. Many consumers worry about whether their family members will inherit less because of their debts, or worse, if they will be responsible for paying them.
There isn’t one easy answer to this question, as it can depend on the type of debt incurred and the terms of the loan.
For instance, if you take out a loan with your spouse — a second mortgage, say — and you die, your spouse is responsible for paying that money back. But what about credit card debt?
Debt and Community Property Laws
To simplify things, it’s easy to say that credit card debt belongs to the borrower – the person originally responsible for the credit card. But life is not that simple.
Laws related to debt after death can vary from one state to another. In states with community property laws, your spouse is responsible for your debts even if they didn’t cosign. These states are: Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin.
In these states, if you have run up enough debt for it to be a hardship for your surviving spouse to pay, the courts may take this into consideration. It’s not automatic though. The courts aim to protect the creditor more than the surviving spouse.
One exception within community property laws can be student loan debt. But it is not always an exception. It depends where you live and what type of student loan it is.
If the debt is a federally guaranteed student loan, your spouse is off the hook. This loan program ended in 2010, but many people are still paying these student loans back. With this type of loan, when you die, the government simply cancels the debt.
Private loans are all different, and you would have to check with your lender to see what their rules are regarding the death of the borrower. The lender would likely attempt to collect from the debtor’s estate or a cosigner, if there was one. If neither of these methods satisfies the debt, a private lender may target the surviving spouse if the couple lived in a community property state. After all, they can’t repossess your education.
Take note, however, that any debt that is forgiven may come with a tax penalty, meaning your spouse may have to pay taxes on the forgiven debt the same way as if it were a gift.
One important fact to note if you separate or begin the divorce process in a community property state — any debts incurred after the separation begins are the responsibility of that party only, not the spouse.
Common-Law State Rules
All the other states follow common-law rules, which stipulate that property — and debts — acquired by one spouse belong to that person only. If you live in a common-law state, this frees your spouse from having to pay your debts in the event of your death, but it also allows spouses to will property to people other than their husband or wife.
Family members who aren’t a husband or wife are not responsible for your debts, so unless they cosign a loan for you. This is true even if it isn’t a family member — anyone who cosigns a loan for you is obligated to pay it back if you die before it is paid.
Of course, if you have any assets, these can be sold to relieve the survivor of the burden. For instance, if your brother or sister cosigned a car loan for you, whoever is managing your estate after you die can sell the car and use the money to pay back at least a portion of the debt. Depending on how much is left on the loan and what shape the car is in, the sale price may cover the loan balance. But if it doesn’t, your cosigner will have to pay.
With credit card debt, however, unless you hold a joint account with someone else, your family will not be responsible for paying the debt.
However, any of your creditors may file claims on your estate in an effort to recoup some of their money.
Most Americans Die in Debt
If you’re feeling shame over the prospect of dying with debts that need to be paid, you can stop. Time reports that 73 percent of Americans die with debts. The average amount of debt they die with is $61,554. Not including mortgages, the number is $12,875.
You may think the most common debt for Americans to die owing is a mortgage, which is generally thought of as good debt, since real estate appreciates in value and can be sold to pay the debt. But the truth is that the majority of debts at the time of death are credit card debts. The average amount of credit card debt people die with is $4,531.
Mortgage debts were the second-most common, followed by auto loans ($17,111), personal loans ($14,793) and student loans ($25,391).
How the Debts Get Paid
While some of these numbers look high, the truth is that many people have enough assets to cover these debts, though they might not be liquid. For instance, say you own your own home and live alone. You may owe $100,000 on your mortgage and have $25,000 in credit card debt. You may be making payments on the credit card debt, but the interest is high and you’re chipping away at it only very slowly.
You obviously don’t have the cash on hand to pay the debt, or you would have done so. But if you die owing that money, your estate can sell your home and likely get enough to pay off the mortgage and the credit card debt and have something left over for your heirs.
The problem arises when your heirs live in the house. If you live with your spouse and kids and the only way to pay your debts is to sell the house, they won’t have anywhere to live. Presumably, they would get enough from the sale of the house to put a down payment on a new home, but what if this wasn’t the case?
Plus, they would have to find a home that they could pay for without your income, since they would no longer have this. Further, if you have school-aged children, they may be traumatized by the combination of your death and the necessity of moving to another home, possibly even another school district. Dealing with this much change at once can be overwhelming.
Life Insurance Could Help with Debts
You probably do not have the capacity to quickly pay all your debts to relieve survivors of this burden, but one solution could be to purchase some life insurance. You may have the benefit of buying it through work for a reasonable price. If not, you can buy it through an independent insurance agent.
Your choices might seem overwhelming, but it’s worth the time to go through them and make a choice. CNN Money suggests you should buy enough insurance to equal seven to 10 times your annual salary. This is a rough estimate based on the idea that this amount will be enough of a cushion for your survivors. But only you know best about how much is enough.
For instance, if you know that your house is mortgaged to the hilt and you have other debts besides, this might not be enough. If you have a special-needs child who will always require care and never become independent, this will affect your future finances as well.
When considering life insurance, take the time to factor in all major debts. This should include mortgages, loans, as well as credit cards. Figure out how much your survivors will need to pay off your debts and take care of funeral expenses. Then you may also want to check to see if you can afford a policy that also provides enough money to give them a cushion of time to adjust after your death.
Executor Can Manage the Money for You
If you are concerned about your heirs mishandling the money, appoint an executor you trust. For instance, if you believe your spouse is not good with money, you could direct your executor to give them only a certain amount each month. This way, they would be prevented from going through the money too quickly.
If you have a unique situation, such as a family member who is dealing with an addiction, you may want to take additional steps. For instance, you could direct your executor to use the money to pay the bills each month.
If your survivors are minor children, you must appoint an executor. You could direct them to use the money for your children’s expenses and to pay for college. Your children could receive the balance at a particular age (25 is common) — or never.
Now that you know what happens to credit card debt when you die and what you can do about it now, you can rest easier.